Ben Bernanke has an inflation problem. There isn\u2019t any inflation and that\u2019s a problem.<\/p>\n
In the last 12 months, consumer prices have risen a mere 1.1 percent which\u2014according to Bloomberg\u2014\u201dmatches the smallest increase since records began in 1960\u00e2\u20ac\u00b3. At the same time, the velocity of money (how fast money changes hands) has slowed to a crawl, in fact, it\u2019s slower than anytime since 1959. Naturally, this lethal combo (low inflation-slow velocity) has impacted growth which just clocked in at a pitiable 1.8 percent. If present trends continue, disinflation could turn to outright deflation sometime in the latter half of 2014 leading to further\u00a0economic\u00a0deceleration.<\/p>\n
But why is\u00a0low inflation a problem, after all,\u00a0lower prices mean consumers get more bang for their buck, right? How can that be bad?<\/p>\n
It\u2019s bad because low inflation is a sign of stagnation. When demand is weak, there\u2019s little upward pressure on prices. In a deflationary environment, people\u00a0hold onto their cash figuring that prices will be lower in the future. Hoarding, in turn,\u00a0leads to reduced borrowing and spending which puts the economy into a nosedive. It\u2019s all bad. That\u2019s why the Fed has an 2 percent inflation target that it tries to maintain by pumping money into the financial system; it\u2019s to incentivize spending by creating inflation.<\/p>\n
So why has the Fed failed to hit its inflation target when it\u2019s expanded its balance sheet by more than $2.3 trillion since Quantitative Easing (QE) first began? Hasn\u2019t all that bond buying pushed up prices?<\/p>\n
Nope, it hasn\u2019t, and it\u2019s easy to see why. When the Fed creates reserves at the banks (QE) it adds to base money, but that money does not\u00a0trickle down to the real economy\u00a0until the worker bees (you and me) take out loans or run up our VISAs. When credit is not expanding (which it isn\u2019t except for student loans and subprime auto loans), activity flags and the economy shifts into low gear. That\u2019s where we are now. The Fed can change this dynamic by boosting \u201cinflation expectations\u201d, which is to say that if people believe the Fed will succeed in raising inflation, then\u00a0they\u2019ll spend more dough than they would have otherwise. But Bernanke has flopped on that account, too. His recent announcement (that he would scale back on his asset purchases if the economy improved) sent markets plunging, but even worse, it drove a dagger into inflation expectations. Now no one believes the Fed can raise inflation via QE. The damage to the Fed\u2019s credibility is incalculable.<\/p>\n
Paul Krugman thinks Bernanke made a \u201chistoric mistake\u201d by talking about tapering too soon, but Krugman also thinks he knows how to minimize the fallout. All Bernanke needs to do is convince the markets that he\u2019s crazy. Here\u2019s a clip from Krugman\u2019s blog at the New York Times:<\/em><\/p>\n \u201cWhat\u2019s the point of Fed communication? Mainly it\u2019s not about the specific numbers; it\u2019s about conveying what kind of central bankers we\u2019re dealing with, and hence what they\u2019re likely to do in the future. Talk of extended easy money can help the economy now precisely because it makes the Fed sound like it\u2019s not a conventionally-minded central bank, eager to snatch away the punch bowl; even asset purchases work mainly because they reinforce that impression of unconventionality.\u201d<\/p>\n<\/blockquote>\n This post is a follow up\u00a0from an earlier piece in which Krugman said the Fed must \u201ccredibly promise to be irresponsible\u201d. In other words, Bernanke needs convince everyone that he\u2019s seriously lost it and is going to keep his foot on the gas long after the economy has rebounded. That will send consumers racing off to the shopping malls to buy more trinkets before prices rise.<\/p>\n Are you convinced yet?<\/p>\n Of course, there are a few glitches to this theory, like the fact that higher inflation expectations\u00a0can\u2019t\u00a0boost spending when people are already broke. Broke is broke. It\u2019s a condition that people experience in an economy where unemployment is high and wages are stagnant or falling. The cost of money (interest rates) doesn\u2019t matter to people who are broke because they\u2019re not taking out a loan anyway so they don\u2019t give a rip. To them, higher inflation just means more cutbacks at the grocery store or shopping center. This is what we\u2019re seeing in Japan, where the Bank of Japan (BoJ) is on track to double the money supply in the next two years but prices are still falling and the economy is still in the grip of deflation. Take a look at this from Reuters:<\/p>\n \u201cCore consumer prices continued to fall and manufacturers forecast further weakness ahead, government data showed on Friday, underscoring the challenges the Bank of Japan, under new Governor Haruhiko Kuroda, faces in meeting its 2-percent inflation target.<\/p>\n \u201cThe deflationary trend shows no signs of changing,\u201d said Yuichi Kodama, chief economist at Meiji Yasuda Life Insurance in Tokyo\u2026.<\/p>\n \u201cExpectations for deflation, deeply embedded among the public, are very persistent,\u201d Kodama said. \u201cIt appears quite difficult for monetary easing implemented by Governor Kuroda to achieve a positive cycle of inflation and economic recovery.\u201d<\/p>\n<\/blockquote>\n So, yes, Abenomics has sent stocks into the stratosphere and chopped the yen into mincemeat, but as far as ending deflation, the results are not so good. And the reason is simple, wages in Japan have been drifting lower for the last 20 years and they\u2019re still falling today. Get a load of this from Bloomberg:<\/p>\n \u201cEnding consumer price declines would give companies and households more incentive to borrow, and boost revenue for businesses and the government in a nation that saw its third recession in five years in 2012\u2026.<\/p>\n \u201cThe key is wages,\u201d said Nobuyasu Atago, principal economist at the Japan Center for Economic Research and a former BOJ official in charge of price data. \u201cWithout pay increases, the economy won\u2019t recover and households will only suffer from inflation.\u201d \u2026.<\/p>\n Japan\u2019s main business lobby signaled it won\u2019t endorse pay rises at regular wage negotiations with labor unions this spring, Kyodo News reported Dec. 20. Prime Minister Shinzo Abe\u2019s Liberal Democratic Party is considering tax breaks for companies that raise pay or expand hiring.\u201d (\u201cJapan Learned to Love Deflation in Wage Malaise Facing BOJ\u201d, Bloomberg)<\/p>\n<\/blockquote>\n And here\u2019s more from The Economist:<\/p>\n Keidanren, the main big-business lobby, has remained cool, saying it wants to see more sustainable profit growth before its members agree to basic-pay increases, which are harder to reverse than bonus payments.<\/p>\n Masamichi Adachi of J.P. Morgan says overtime and bonus payments are likely to rise before core salaries do. He says that, rather than higher inflation expectations, the country needs higher growth expectations before companies commit to permanent wage increases. As it is, a planned rise in the consumption tax next year is likely to offset some of the effect of a big fiscal stimulus this year, which means growth may flatten in late 2014.<\/p>\n There is a danger, Mr Adachi adds, that the popularity of Mr Abe\u2019s policies will quickly decline if the public perceives they are getting \u201ccost-push\u201d inflation caused by rising prices, rather than \u201cdemand-pull\u201d inflation, caused by rising wages. \u201cA reflationary policy is initially quite well received until inflation actually comes.\u201d<\/p>\n<\/blockquote>\n Do you see the pattern here? Profits before wages. Bonuses before wages. Growth before wages. Anything before wages. It\u2019s the same in America, except worse. Big Business may recognize the importance of higher wages in revitalizing the economy, but they\u2019re not going to give ground unless someone puts a\u00a0gun to their head and forces them to comply. Class war\u00a0takes precedent over everything, even the health of the economy.<\/p>\n Now check this out from\u00a0economist Frances Coppola who thinks that QE is a big fraud that neither \u201cincreases inflation\u201d nor \u201cdebases the currency\u201d:<\/p>\n \u201cThere is zero chance of domestically-generated inflation while wages are falling, contractionary fiscal policy is depressing real incomes, banks are not lending and corporates are failing to invest. Externally-driven inflation is possible, and we are of course seeing inflation in asset prices as a consequence of QE. But the core trend is disinflation in developed countries \u2014 I hesitate to say \u201cdeflation\u201d, since inflation is still above zero, but core inflation is on a downwards trend in nearly all developed countries. \u2026 \u201c<\/p>\n<\/blockquote>\n Repeat: \u201cThere is zero chance of domestically-generated inflation while wages are falling.\u201d<\/p>\n Amazing, isn\u2019t it? Bernanke\u00a0is\u00a0pumping $85 billion per month into the financial system and the arrow on the inflation-dial is still headed for the red. Unbelievable. Now everyone can see that QE was just\u00a0another bubble-making farce that has no impact on the real economy at all. The Fed\u2019s credibility is in a shambles.<\/p>\n No wonder Bernanke is thinking about early retirement.<\/p>\n MIKE WHITNEY<\/strong><\/em>\u00a0<\/strong>lives in Washington state. He is a contributor to\u00a0Hopeless: Barack Obama and the Politics of Illusion<\/a>\u00a0(AK Press).\u00a0Hopeless is also available in a\u00a0Kindle edition<\/a>.\u00a0Whitney\u2019s story on how the banks targeted blacks for toxic subprime mortgages appears in the\u00a0May issue of CounterPunch<\/a>\u00a0magazine.\u00a0He can be reached at\u00a0fergiewhitney@msn.com<\/a>.<\/em><\/p>\n\n
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